The Swiss TP landscape is evolving – what are the latest observations?

Transfer pricing has so far played a rather subordinate role in Switzerland, but this has changed in recent months, becoming a more eminent topic for multinational organisations with presence in Switzerland. The tax administrations have published a new, detailed paper on the subject in which explicit reference is made to various principles of the OECD Transfer Pricing Guidelines that still need to be well established in Switzerland (e.g., DEMPE concept, credit ratings, implicit support). We expect that this strong emphasis will motivate the tax administrations to approach the topics associated with transfer pricing more professionally and in more detail while aligning the Swiss practices with the OECD Guidelines in the coming years. The cantonal tax administrations are also receiving increasing support from the Transfer Pricing Unit of the Swiss Federal Tax Administration. The trend towards greater scrutiny of transfer pricing can also be seen in the recent increase in court cases and general tax assessments involving transfer pricing matters in more depth.

Background

Transfer pricing has often played a subordinate role in Switzerland in recent years. As Switzerland had very low tax rates by international comparison and groups could also benefit from various tax regimes, the shifting of tax substrate from Switzerland to foreign group companies was hardly a concern. It is, therefore, not surprising that in contrast to many foreign tax jurisdictions, Switzerland has hardly any specific transfer pricing rules and has yet to introduce specific tax laws relating to the setting and testing of transfer pricing, although the OECD TP Guidelines are generally acknowledged.

In recent months, however, the issue of transfer pricing has increasingly come to the attention of the tax administration in Switzerland and has become a topic of evolving importance.

Transfer Pricing Paper

On 23 January 2024, the Swiss Tax Conference ("SSK"), an umbrella organisation of the cantonal tax administrations, together with the Swiss Federal Tax Administration (SFTA), published its first detailed paper (German/French/no English version) on transfer pricing in Switzerland, which is part of a dossier on the Swiss tax system. The document was published on the homepage of the Swiss Federal Tax Administration. Various key insights can be taken from this paper:

• OECD Transfer Pricing Guidelines: Even though the OECD Guidelines are not legally binding in Switzerland but are merely an instrument for interpreting the arm's length principle, they are regularly referred to in this paper. In our judgment, this means that these OECD rules must be applied to Swiss transfer pricing cases even more than in the past. What is interesting here is the explicit reference to version 2022, which, for example, also contains a chapter on financial transactions compared to the previous version. According to our assessment, however, the 2022 version still needs to apply to older transfer pricing cases.
• Transfer Pricing Methods: The paper explains the five different methods in detail and also highlights the option of other methods. In the past, cantonal tax administrations have mostly limited themselves to cost-plus / TNMM or a profit split primarily based on headcounts. This paper emphasises that all methods must be considered, hopefully leading to easier discussions with tax administrations.
• Intangible Property (IP): The paper refers to the DEMPE concept, which in our experience, has already been taken up by tax administrations from time to time in the past. This implies that economic substance at the level of a (legal) IP owner is critical to defend IP-related returns. By explicitly mentioning it, it will now become established in Switzerland. The tax administration is also drawing attention to the concept of hard-to-value intangible assets, which is barely known in Switzerland. This may lead to transfer prices for IP rights being scrutinised, particularly in the pharmaceutical industry.
• Financial Transactions: The tax administrations' paper emphasises in particular that credit ratings must be taken into account when setting interest rates for financial transactions. This is partially in contradiction with the established safe harbour interest circular. Reference is also made to the concept of implicit group support, which is hardly common in Switzerland so far. 
• Documentation: The document explains the OECD's three-tiered documentation concept but points out that Switzerland has no formal documentation requirements – other than complying with Country-by-Country Reporting requirements, if applicable. However, taxpayers are obliged to provide evidence to support arm's length behaviour upon request, most likely in the course of tax audits. This emphasises that professional documentation should nevertheless be prepared in Switzerland, which could be based on the OECD documentation format in alignment with a multinational group’s TP documentation approach.

Transfer Pricing Unit

The Swiss Federal Tax Administration (SFTA) has had a unit dealing specifically with transfer pricing issues for several years. It handles cases for its own administration (withholding tax) and supports the cantonal administrations (corporate income tax). This unit has led to a welcome professionalisation but also to increased controversy. There are also initial indications that this unit is abolishing certain transfer pricing practices that do not comply with the OECD Transfer Pricing Guidelines, thus leading to an alignment with the OECD principles. Only recently, the SFTA confirmed that the practice of having tax expenses and FX gains/losses as part of the cost base will be abolished to align the Swiss practice with the OECD Transfer Pricing Guidelines. FX gains and losses must be considered case-by-case (see our blog published on 23 January 2024). The unit dealing with transfer pricing matters has increased its headcount over the last few years.

Court Case on Transfer Pricing

We have observed that the courts are judging more and more transfer pricing cases in Switzerland. These are cases that are being heard by cantonal tax courts, as well as cases that are going all the way to the Federal Supreme Court. This confirms that the tax administrations are increasingly scrutinising the transfer pricing models of groups with a presence in Switzerland. The cases are heterogeneous, but the following focal points can be identified:

• Cash pooling: Clarification of whether deposits in foreign cash pooling arrangements are to be classified as short-term or long-term, which has an impact on the interest rate.
• Offer as third-party comparable: Bank offers are no longer accepted as comparable transactions.
• Post M&A transactions: Reorganisations and modified transfer pricing models immediately following foreign groups' acquisition of Swiss companies. There is often a dispute about the extent to which the transfer prices must comply with the purchase price allocation ("PPA") under IFRS or US GAAP.
• Reorganisation: Changed business models (e.g., change from principle to pure distribution company) lead to disputes about what has been transferred and how it is appropriately compensated.
• Substance assessments: Review of applied transfer pricing models, especially where IP-related transactions are involved (e.g., licensing, profit sharing, etc.).

We assume that - in line with developments abroad - transfer pricing will also increasingly become a focus topic of tax administrations in Switzerland. Pragmatic approaches, such as simply cost-based methods, will often no longer be possible, and the principles of the OECD Transfer Pricing Guidelines are expected to be established in Switzerland. Even though there is no transfer pricing documentation obligation in Switzerland, we anticipate an increased need for professional benchmarking and documentation.   

Our experts will be happy to discuss with you whether and how these developments will affect your transfer prices.

• Thomas Hug - Partner, National Tax Office
  
• Markus Reese - Partner, Transfer Pricing and M&A
• Martin Krivinskas - Partner, International Tax & Transfer Pricing
• George Galumov - Partner, Transfer Pricing Financial Transactions Leader